FASB expensing measure on hold

As the Financial Accounting Standards Board agreed to delay the effective date of its impending standard on accounting for employee stock option compensation, proponents of expensing are bemoaning another six months of opposition, while opponents of FASB's standard see an extended opportunity to resist.

The tentative decision moves the effective date from periods beginning after Dec. 15, 2004, to periods beginning after June 15, 2005. FASB made the change after the Securities and Exchange Commission suggested that, at least for the next several months, public companies would be suffering the burden of complying with the new corporate governance reporting requirements of Section 404 of the Sarbanes-Oxley Act.

A FASB spokesperson said that the board acknowledged that companies would need time to learn to start valuing employee stock options. The board gave no indication, however, that it was conciliating the opponents of the project or using the extra time to rethink the more controversial points of the proposed standard.

Calling FASB's decision "unfortunate," Barbara Roper, director of investor protection at the Consumer Federation of America, said that the postponement will be used by opponents to continue their lobbying efforts to prevent the expensing of stock option compensation on balance sheets.

"The quicker we can move toward enacting a rule that has been a decade in the making, the sooner those companies will learn to accept reality and live with the requirement [to expense]," Roper said. "If given additional time, they will use it politically, in Congress, to try to overturn the [proposed] rule."

Prior to the FASB announcement, SEC chair William Donaldson had received numerous letters from supporters of delaying the implementation date.

Congress has made moves toward overriding the final statement that FASB is expected to issue by the end of the year. Earlier this year, lawmakers passed H.R. 3574, a bill spearheaded by Rep. Richard Baker, R-La., that requires companies to expense the value of only the stock options issued to their largest five recipients.

The Senate is working on a similar bill, but Sen. Richard Shelby, R-Ala., chair of the Senate Banking Committee and a staunch advocate of options expensing, sees no chance of the Senate passing any such bill.

"Senator Shelby continues to believe that FASB and the SEC are the appropriate bodies to consider issues related to the expensing of stock options," said Gary Andrews, a committee spokesperson. "He has full confidence in their ability to set the standard and balance implementation issues. He respects this process and will continue to make every effort to ensure that their determinations are made free of congressional interference."

Jeffrey Peck, a partner with the lobbying firm Griffin, Johnson, Madigan & Peck, and lead consultant for the International Employee Stock Options Coalition, a vocal opponent of expensing, said that the coalition would continue its opposition to the change. He did not want to see "delay for delay's sake." Rather, he thought that the time should be used to continue work on the project.

"Obviously there is a lot more time to go in this debate. A lot can happen in the first six months of next year," Peck said. "At the same time, it is incredibly disappointing, and to a certain extent defies common sense, that FASB would allow for some additional time but then refuse to do any further work on valuation. They continue to adhere to this notion that what they have put forward in their proposal on valuation is workable, auditable, accurate and reliable. I think there's a widespread set of views that their current approach on valuation is fatally flawed."

Strong opposition against FASB's expensing proposal has come from technology-heavy states such as California and from Wall Street, where the annual bonuses of senior-level executives are heavily predicated on lavish options packages. Critics charge that such packages are often an invitation to earnings manipulation in an effort to pump up stock prices during the period of options redemption.

Peck said that in the first six months of 2005, the SEC could decide to insist on field tests of the proposed standard. He also saw the possibility of legislative efforts or a change in the economic environment.

"Six months," he said, "is a long time in politics."

The fog of valuation

The standard that was proposed earlier this year and issued as an exposure draft would require companies to report the fair value of employee stock options on their grant date. Critics said that, given such unknowns as future equities prices and the date that stock options are exercised, no model of stock option valuation could produce anything more than an estimate.

The current set of tentative decisions on this project allows companies to choose the valuation method that is most appropriate for their business situation. Most companies are expected to use the Black-Scholes model or the binomial lattice model.

A new model proposed by three high-tech companies in September was dismissed by FASB as unacceptable and not well founded.

The proposal also gives companies substantial leeway to use "reasonable" measurements and parameters. Some companies that have conducted field tests using various reasonable parameters have produced wildly varying conclusions, raising concerns over the comparability of financial statements.

The International Accounting Standards Board appears ready to issue a statement that is very similar to the one being developed by FASB. The two boards have agreed to try to converge U.S. and international standards.